Show me the money – where does the commission go?

Many would be home sellers like to challenge the commissions being paid for the sale of their house. They usually start off by saying something like, “that’s a lot of money that you get for selling my house.” As a Realtor®, I’m used to having to explain all of the things that I will be doing to facilitate the process of the sale, many of which take place “behind the scenes” and out of sight of the buyers and the sellers. There are just a ton of little details that must be handled with the other agent involved, the mortgage companies involved and the title companies. It spills over to the home inspectors, the insurance company and sometimes the local governmental bodies and home owners association. If good real estate agents are handling these things the buyers and sellers will perhaps never be involved with them, or will only be asked to supply some information to allow the process to proceed.

Another thing that I often have to clarify for the seller is where the commission money goes. Most sellers start out thinking that I get it all, if I’m the listing agent. I’m not sure if they believe that the buyer is somehow compensating their agent or what. In any event, that is not the case and I usually take the time to show them where the money goes.

For simplicity sake, let’s assume a sale value of $200,000 for the house that I've listed. When I wrote that listing contract, let’s assume that  I may have asked for a commission of 6%, which is fairly common in this area, but which is a negotiated agreement with the seller. So the seller assumes that, at closing, I’m walking away with 6% or $12,000 in my pocket. How I wish that this was true. The reality is quite different. Here’s where that money goes:

Most (about 85-90%) sales involve two different real estate agent – one who lists the house and another agent  who represents a buyer, brings them to see  it and who then writes up and presents the offer. The listing agent makes the listing attractive to those buyer agents by offering them what is called a cooperative split of the commission, usually ½ of it. So, right off the bat, ½ of the $12,000 is given to the buyer’s broker (agent).

OK, so that leaves $6,000 for me, right?  Wrong. Almost all real estate agents actually work for a real estate broker (the person or company who owns the brokerage and brand under which the agent does business). Most of the big names in the real estate business are actually franchise operations and the franchiser takes a cut off the top of every deal to pay for the brand advertising and support. That is usually somewhere around 8.5% of the agents portion of the deal. Even small, non-franchise brokerages have figured out ways to scrape about 8.5% off the top for what they might call “marketing fees.” So, now I have $5,490 left. That’s still pretty good, right?

Hold on a minute! All agents are required to pay for the privilege of doing business by either paying their broker a flat fee or splitting a certain percentage of each sale with the broker. Typical splits range from 20% up to 50% going to broker, usually a sliding scale that changes, depending  upon how much business the agent has done in a year. The broker uses that money to run his brokerage business and pay for things like the brokerage building space and administrative staff.  For this example, it's early in the year; so, let’s use a fairly typical 40% figure. So now, I've paid the broker his split and I get the remaining $3,294 to put in my pocket.

Well, not quite. Most brokers have other fees and expenses that they take, in addition to the franchise fee and  their commission split, brokers may take more money out of each deal to cover things like Errors and Omissions insurance, office supplies and other administration charges. Let’s be generous and say that this only subtracts another $194 off the money coming to me, so I still get $3,100, or so it would seem.  

Real estate agents work as independent contractors for the brokers who take nothing out of their checks for taxes, so Uncle Sam and the state tax man are waiting by the pay window to get his share, too. Figure about 25% of what was my net pay will go to pay federal taxes and perhaps another 4.5% will need to be withheld for state taxes. What I end up with in my pocket to spend is about $2,170. That works out to be 18% of the original $12,000 that you thought was too much for me when we started out. Also remember that I have to pay for my own advertising costs, web site costs, the costs of my signs and the flyers that I create for your house and for the memberships to the local Multi-List Service (MLS) and to the various real estate associations that I am required to join (between $1,000 - $1,500 per year, in my case, perhaps more in other areas) and that I must pay for such services as accounting and tax preparation. I have to figure on $2,500 – $3,500 a year for all of those things. It’s just the cost of doing business as a Realtor.

If I've got ongoing business is the pipeline and sell one of those $200,000 houses a month ($144,000 in raw commission), I will end up with about $26,000 in a year to house and feed and clothe my family, which is at least still above the Federal poverty level  of $24,250 for a family of four. Yikes! I will need to work harder and sell more houses. 

So, now you know where the commission money goes. I share this with you, not so that you’ll feel sorry for me, but rather than you will not feel that you are overpaying me.  There’s a lot that goes on that you don’t see, but that person who you do see right in front of you most of time is not putting most of your money into their own pockets. They work hard for what they end up earning from each sale.